Figuring Out the New Tax Changes

If you haven’t talked to your accountant about new federal tax rules, make an appointment to do necessary adjustments.

Figuring Out the New Tax Changes

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As the new year begins, once again it’s time to put your books in order for the tax season.

And with the sweeping federal tax bill Congress passed and President Donald Trump signed late 2017, there may be some changes to your routine for your 2018 federal taxes.

The new law has implications both for your business and your personal finances, points out Gregory J. Sell, tax attorney at the Milwaukee business law firm Davis & Kuelthau.

As always, this column is no substitute for consulting with your financial advisor, who can give you guidance based on your specific circumstances. But when the time comes to have that conversation, here are some things to keep in mind.

PASS-THROUGH INCOME

Let’s talk about the effects on business first — although, as you’ll see, they might show up on your personal tax return too.

We assume that your business is either formally incorporated, probably as a limited liability corporation or an S-corporation, or possibly set up as a partnership.

As a partnership, a sole proprietorship, or an S-corporation, your business is what is commonly called a “pass-through” entity. For tax purposes, the income flows entirely through to the owner, and the tax liabilities are factored into your overall personal tax filing.

Under the previous law, the top income tax rate business owners paid on their business-related earnings was 39.6 percent. The new law sets the top income tax rate at 37 percent. In addition, it provides a deduction for the taxable portion of the business income of 20 percent.

That deduction, Sell explains, has other potential calculation limits phasing in when taxable income exceeds $315,000 for joint returns and $157,500 for all others. (And if taxable income exceeds $415,000 for joint returns and $207,500 for all others, specified service professions, including lawyers, doctors, accountants, and others, are denied the deduction entirely.)

Another important thing to remember is that the deduction applies only for income tax purposes, Sell points out. It doesn’t affect how other income-related liabilities — such as Social Security and Medicare tax — are calculated.

CORPORATE QUESTIONS

The net effect of the lower pass-through tax rate under the new law puts the overall rate for their income at about 30 percent, Sell explains. While that’s certainly lower than they enjoyed up to now, consider that the old-time traditional C-corporation — usually associated with much bigger companies — got an even bigger break. Their top tax rate, which had been 35 percent, dropped to 21 percent, Sell points out.

With that change, “being a C-corporation is more attractive than it used to be,” Sell acknowledges. “Some S-corporations are thinking of switching to becoming C-corporations.”

Sell cautions that will be more complicated and require careful evaluation to decide whether it’s right for you.

First of all, it’s simply too late to do that for 2018, he says. If you might want to consider that for this year, you will need to start exploring the idea right now, whether in the end you want to go through with that change or not.

IRS rules allow such corporate-classification changes only in the first 2 1/2 months of the new year, according to Sell. That means you need to study it now, and you’ll need to get it done before the middle of March. That may not be anywhere near enough time to think through all of the implications of such a change and whether it’s really best for your business in the long run.

One reason to look more closely at such a conversion might be if you are contemplating selling your business in the near future.

Sell points out that the complexity of the process and the need to carefully examine all potential ramifications argues against making a hasty decision. Not only that, but once you make such a change, you’re stuck with it for at least five years under federal regulations.

In short, this is definitely a question you don’t want to consider without a detailed conversation with your business financial and legal advisors.

FASTER BUSINESS DEDUCTIONS

Another change in the new federal law may affect how you think about equipment purchases, Sell observes. Simply put, new provisions make it even easier for you to realize big tax breaks faster when you make new capital expenditures.

The main benefit is that bonus depreciation rules under the new law let you deduct 100 percent of the expense right away — instead of 50 percent under the old law — rather than spread the depreciation deduction out over time.

Changes to Section 179 raise the limit on capital expenses that can be deducted under that portion of the code to $1 million in a year, but only for companies that spend $2.5 million or less on all such expenses in a year. So if you’re already in the market for a major new piece of equipment, and you know your business can sustain the purchase, check with your accountant to see whether this is the time to make the move to acquire it before the end of the year.

Neither of these federal changes alter how states may treat such expenses, so you’ll need to make sure you understand what those implications are as you weigh these sorts of decisions.

ON THE HOME FRONT

Finally, there are a few implications for your personal income taxes, too.

For many taxpayers, the new law does seem likely to reduce some of the paperwork at year’s end. The big reason: The federal standard deduction is now at a whopping $24,000 per household.

Coupled with that is that deductions for real estate and local and state taxes are now capped at a total of $10,000 per household, Sell explains.

So when you add up the other personal deductions — contributions to charity, mortgage interest, health care costs, and all the rest — and then add no more than $10,000 in the deduction for state and local taxes, if the total still falls below $24,000, you will no longer need to itemize for those deductions.

Sell suggests that the change in state and local tax deductibility is likely to end one strategy some taxpayers use: double-paying their property taxes every other year to boost their itemized deductions in those years, then taking the standard deduction in the alternating years. “Once they hit that $10,000, they don’t get any additional benefit,” he says.

Of course, if other deductible expenses that aren’t capped, such as charitable contributions and mortgage interest, can bring their overall deductions above the $24,000 standard deduction in a given year, some taxpayers might still opt for that play under the new law.

Even with that strategy, though, “If you’re under $24,000 in itemized deductions, you’re not going to get any extra benefit by prepaying anything.”

WHAT’S NEXT?

So as the new year begins, consider what implications all these changes have for your business and your family’s taxes. Pick up the phone and make some time with your accountant for a quick review and an understanding of the law to guide you in any important decisions.

And once you’ve considered your 2018 tax moves, take a moment to think ahead and decide what you might want to do differently this year.



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